IT-focused mutual funds shine with 32% return in a year

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The ascent of India over the past two decades has been through Information Technology (IT) and IT related services such as BPO (Business Process Outsourcing). However, from an investment point of view, IT companies (especially those banking on labour arbitrage) were looked upon as staid, stagnant and poised for an eventual decline over the last few years. In FY 2017-18, the story changed and how!

Gathering pace

The three-year return of IT-focused mutual funds is just 6.84% (annualized). Shift focus to just one year returns and you end up with a startling 32%. In the past three months, IT funds top the equity category tables with a 5% return. This is at a time when small-cap funds gave -7.9% and large caps delivered -2.8%.

The rise of IT is propelled by a recurring macroeconomic theme – the depreciation of the rupee against the dollar. The dollar commanded just Rs 44 in 2011. This was followed by a rapid weakening, with the rupee dropping to 66 rupees to a dollar in 2013. Since then the currency has remained stable, hovering in the Rs 63-65 range over the past five years.

However rising oil prices, US interest rates and government spending in India threaten this extended period of calm. IT companies earn in dollars, making them an easy way to capture dollar strength against the rupee.

Which fund to pick

There is only a handful of IT sector funds, so you are not exactly spoiled for choice.

Among them, Aditya Birla Sun Life New Millennium Fund really stands out on performance with a five year annualized return of 18.5%, three-year return of 8.92% and a one year return of a blistering 34.7%. It beats its benchmark (S&P BSE Teck) and category average over all these time periods. It has been managed by the same fund manager, Kunal Sangoi since Jan 2014.

ICICI Prudential Technology fund has also performed well, with five year annualized returns of 19.12%, three-year returns of 6.5% and a one-year return of 30.3%. It has not beaten the category average, except over the five-year time frame but returns are close to the average. It is managed by the ICICI’s Chief Investment Officer (CIO) Sankaran Naren since July 2017, assisted by Ashwin Jain since October 2016.

Our third pick is a bit of an underperformer in the category, but it has a unique selling point. It allocates part of its corpus to international tech stocks such as General Electric (GE), Qualcomm and Microsoft as well as (essentially) Indian tech companies listed in the US like MakeMyTrip and Cognizant. The fund also has another 8.7% of its corpus in Franklin Technology Fund which is an international tech fund investing in tech stocks outside India. This fund has historically performed below category average but above its benchmark. It has five-year returns of 14.6%, three-year returns of 6.2% and one year returns of 24.4%. It has been managed by Franklin’s Chief Investment Officer (CIO) Anand Radhakrishnan since March 2007 and Varun Sharma since November 2015.

Watch out for the Infosys Factor

Before you invest in an IT fund, note that these funds are heavily exposed to a single company – Infosys. This exposure stands at about 25% of the portfolio in Aditya Birla Sun Life New Millennium Fund. ICICI Prudential allocates 33% of its assets to Infosys. At 20.7%, Franklin India Technology Fund is relatively less vulnerable to Infosys but still has a sizeable exposure. Too much exposure to a single company has its risks like Infosys going through a crisis following the recent controversial departure of its CEO Vishal Sikka, causing a major drop in these funds. (But Infosys has recovered though thereafter.)

RupeeIQ Take

A sector fund should never be the core of your portfolio. However, if you are reasonably confident about India’s IT story and want a hedge against the weakness in rupee, an IT fund provides you one. The sector may also be playing catch up, making up for its underperformance over the past three years (returns of 6-9%). If this is true, the sector has a lot further to go. A 30-35% returns over the past year may just be the start.